Cash flow modelling – the issues with assumptions
6 May 2019
The assumptions advice firms make when using cashflow models, particularly in planning DB transfers, are widely variable, warns ATEB Consulting’s Steve Bailey
When reviewing advice on DB transfers, it is not uncommon for us to come across cases where different projections result in the client receiving a mixed message. For example:
Critical yield (or TVC) is very high Transfer is unlikely to be advisable
Drawdown run out age is high … but your fund will never run out
Cash flow model is ‘optimistic’ … and your income will be higher too!
The first two factors appear in the Pension Transfer Report (previously the TVAS), so it is understandable that advisers might assume that these are comparable – but they are not. They measure entirely different things and are based on entirely different assumptions. These differences need to be understood and explained to clients.
Cash flow models are increasingly being used by firms when advising on pension transfers, and the assumptions that firms make are widely variable, in particular, the growth rate. This often results in cash flow models that give an impression of the client’s future financial situation that is not only more optimistic than realistic, but also confusingly different to the indications from the key elements of the Pension Transfer Report, namely the TVC and critical yield figures.
The FCA considered the use of cash flow models when finalising the new transfer advice rules that took effect in 2018 and decided against requiring their use. In fact, the FCA has concerns about the use of cash flow models –of which more later.
However, the rules do not preclude the use of cash flow models, or other projections, provided certain conditions are met. Identifying those conditions is not easy as they are contained in several different places within the FCA Handbook. The key requirements are:
Meeting the requirements (continued over page)
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